Introducing the Roth IRE

Oh man. I might be going to personal finance hell for this one, but ya gotta at least hear me out. You’ve all heard of the Roth IRA right? You know, it’s a crazy awesome type of Individual Retirement Account. Well, today I would like to introduce you to a new concept. The Roth IRE. That’s right. An Individual Retirement Emergency fund.

If you’ve heard of the Roth before, you probably know the annual contribution limit is $5,000. You probably also know that Roth contributions are made with ‘after-tax’ money. What you may not know is this tasty little morsel: Anyone can withdraw their Roth IRA contributions at any time, without penalty. No, you can’t withdraw earnings, but the contributions are free game.

So here is what I’m thinking. I currently have $10,000 in my E-fund. Currently, that’s about 6 months of expenses. Once I get hitched, however, that $10K only becomes like 3 to 4 months of expenses. This means I am faced with two goals that will soon conflict one another. My goal to have 6 months in an E-fund vs. my goal to fully fund my Roth every year. Unfortunately, I can’t do both at the same time. Either the E-fund savings takes precedent, or the Roth contributions become priority.

This is why I have decided to intertwine the two goals.

I’m yet to contribute a single dollar to my Roth this year, as I’ve been aggressively paying down my student loans and saving for things like my wedding. This hasn’t left me with a ton of flexibility in my cash flow. What I plan to do is save $5,000 as quickly as possible. I’ll contribute to my Roth IRA in three increments (a $2,000 contribution and two $1,500 contributions…I’ll explain why I don’t dollar cost average in a future post). Since I will be diverting all of my discretionary income to my Roth, my E-fund will remain stagnant.

The chances of me actually needing access to my E-fund are slim at best. I have a very stable job, am in pretty good health (knock on wood), and don’t have a ton of expenses. Since I’m 96.3% sure I wont be using my E-fund any time soon, I’d rather contribute to my Roth and maximize it’s earning potential.

If, by some freak chance, I end up unemployed I’ll first use my $10K savings. If I am still jobless after three or four months of hunting, I can always tap in to my Roth. Yes, I know, using a retirement account as an E-fund is a personal finance sin, but if there is no tax penalties it’s not so dumb. Besides, it will only take me a few months (after I’ve contributed to my Roth) to build up my E-fund to a true six months worth of expenses, so the window for me to be “up a creek without a paddle” is very small.

What do you think about the plan? Would you contribute to your Roth or E-fund first? Anyone else out there do what I’m doing and use the Roth as a “short term” E-fund option? Any financial know-it-alls see any flaws in my game plan?

Is this “good” debt?

It’s time to help another PDITF reader out. Jane sent me an email. It says…

You’re all about debt reduction and I can get on board with that, but we (hubby and I) are contemplating getting into business for ourselves.  Would this be acceptable debt (in your eyes)??  We’re looking at possibly $50k with the potential to recoup in the first year (or two if we actually want a salary in that first year, which is what I’m leaning towards).  We DO have some savings, but that would leave us with NO emergency fund (and me, VERY uncomfortable).

So do I think taking on debt to start a business is a good move? Not knowing all of the details (interest rate on loan, type of business, success of similar companies, amount in savings, annual income, etc) it’s hard to give Jane a completely detailed response, but I’m gonna do my best….

Jane, DON’T FREAKIN DO IT! In fact, I’d rather squirt lemon juice in my eyes than start a business with credit.  Why you ask?

Well according to the U.S. Small Business Administration, three out of ten new businesses fail within two years, and only half survive five years. If you could cash flow the business, I’d say go for it. But financing a business that is just as likely to fail as succeed, is no bueno in my opinion.

Honestly, I think Jane answered her question with the information she provided in her last sentence. By starting a new business she would deplete what little savings she has, she would have NO cash in the event of an emergency, and she would be the proud new owner of a crapload of debt. There is no way I can, in good conscience, recommend she put herself in such a stressful situation.

Obviously I don’t know what type of business she is looking to start. If it’s going to be the next Microsoft or Facebook, then she should probably ignore my advice and take on the debt. But let’s be real, the chances of that happening are the same chances that Ricky Martin was ever straight.

Here’s my advice Jane: Keep working hard. Save up as much money as you can. Build your business slowly. And pay cash as you go. If you do this, you’ll have a lot less stress and a ton more freedom when it comes time to open your business. And if said business does in fact fail, you at least can walk away with no financial obligations. I couldn’t imagine a worse feeling than being $50K in debt, 3 years out of the workforce, and have NOTHING to show for it.

So PDITFers what’s your recommendation to Jane? Would you ever take on debt to finance a business? Is it too risky? Anyone out there think she should go for it? Help a sista out!

What’s an emergency?

As I mentioned last week, I decided it was time to say “Adios” to Sallie Mae and get rid of my stupid school loan. Two years ago my account balance was $28,000 and today it stands at $4,500. I made a $10,000 payment towards the loan last week, which was totally awesome, but my savings account took a huge hit as a result. My savings currently stands at $2,800 in a wedding fund and $10,000 in my E-fund. Now that I am cash ‘poor’ I’m left wondering, What qualifies as an emergency?

Even though I have $12,800 in my savings account right now, I have virtually no spending money. The $2,800 wedding fund is already earmarked for future expenses (second half of honeymoon deposit, groomsmen gifts, etc). The remaining $10K is my emergency fund.

I’m getting married in a little less than four months and don’t really know how to approach the expenses that come with the married life.

I’ve mentioned my goal is to be debt free by the time I get hitched. To accomplish this goal I would have to put every dollar of my discretionary income towards Sallie Mae from now through August. This poses a big problem. If I spend all my discretionary income on my debt, I will have ZERO money to pay for upcoming expenses.

I have one roommate and Girl Ninja has four. Unfortunately, neither of us own a microwave, television, couch, dining room table, end table, coffee table, etc. Most of this stuff is owned by our roommates so once we move away from them, and move in together, we will have NOTHING. There are some things we are going to have to buy as we get married, specifically a queen size bed and other furniture pieces. I’m not quite sure how we should go about paying for these anticipated expenses.

If I use all my discretionary income to pay down debt, I’d have to use my E-fund when buying these necessities. Although purchasing a bed is definitely important, I find it hard to justify as an “emergency”. I want to keep our E-fund at $10K in case a true emergency arises (job loss, vehicle maintenance, family emergency). I would hate to use my E-fund for something like a coffee table and couch, lose my job shortly after, and not be able to put food on the table.

The other option would be to reduce my debt payments to the minimum obligation ($236/month), so I could build up my savings account for a “furniture fund”. We’d then use this fund to purchase all the items we need. Thus preventing the need to tap in to our emergency fund. While this method would keep my E-fund fully supplied, I will pay for that convenience, to the tune of $105 in interest over the next four months. Definitely not an obscene amount, but it still would suck to part ways with that money.

This dilemma poses a pretty important questions.

What qualifies as an emergency?

Would you use the E-fund to purchase the furniture? Or would you reduce debt repayment for a few months to build a cash reserve?

Do I have to change the name of my blog?

What situation would you rather be in…

Situation Uno: You could have $20,000 in savings, but also have $15,000 in mid-interest debt (7%).

Situation Dos: You could have $5,000 in savings, but zero debt.

I’m currently sticking with situation uno. I have $22K in the bank and a little over $15K in debt. I could pay off my student loan tomorrow, be truly debt free, and still have a small emergency fund. I chose not to. Dave Ramsey would be pissed! My blog’s title is Punch Debt In The Face, but by choosing to remain in debt, perhaps I should change the name to Punch Debt In The Face When You Feel Like It. It doesn’t quite have the same ring, does it?

I would be all about transitioning to situation dos if not for one small detail. I’m getting married. There are a lot of unknowns at this point in my life. I know I will be paying for a honeymoon (probably around $4K) and will face other wedding related costs over the next few months. Not having to pay for the actual wedding day has been a huge blessing, but I will still have some financial obligations.

I have no clue what to expect for monthly expenses as Girl Ninja and I move in together. I’ve never lived with a girl before, but word on the street has it those things can be expensive. It’s also unclear what Girl Ninja’s income will be. She is a substitute teacher in California, and we all know the California government can’t manage money.

Maintaining a rather large savings account keeps me from stressing out about the “unknowns” of marriage. Personally, if I paid off my student loan, and only had a few grand in the bank, I would be super anxious about our stability. So for the time being, I plan to continue operating in situation uno until, at least, the end of the year. After a few moths of the married life, and once I have a better handle on our future, I will strongly consider paying off my loan.

So what would you do? Does the security of having a large amount of cash in the bank keep you from stressing about your debt? Or does debt overwhelm you, and you would get rid of it in an instant. I have a feeling there will be a pretty even split.